A narrow focus on investment-grade bonds can lead to dismal returns, says Morgan Stanley's fixed-income team
For better long-term returns in the bond market, investors need variety, according to portfolio managers at Morgan Stanley.
With 10-year U.S. Treasury yields now above 5%, investors are looking at new opportunities for attractive income streams away from the stock market.
However, predicting interest rates and bond prices is a challenge, while sticking with U.S. Treasury paper or investment-grade bonds could mean missing out on opportunities for much better long-term returns, according to portfolio managers at Morgan Stanley.
"Traditional core aggregate bond investors have been losing money cumulatively for five years, and there is a better way to bond-invest," Andrew Szczurowski, the co-head of the mortgage and securitized investment team at Morgan Stanley said during an interview with MarketWatch, which included his colleagues Brian Shaw, Justin Bourgette and Chip Driscoll, all of whom work on the team managing the $20 billion Eaton Vance Strategic Income Fund ESIIX.
The fund is rated five stars (the highest rating) within Morningstar's "Multisector bond" category. Morgan Stanley acquired Eaton Vance in 2021.
This chart illustrates Szczurowski's point:
For five years through Sept. 14, total returns were negative for indexes of 10-year U.S. Treasury bonds and investment-grade corporate bonds.
The Bloomberg U.S. Aggregate Index of investment-grade corporate bonds has declined nearly 3% with interest reinvested over the past five years, while the S&P U.S. Treasury Bond 10-year Index has declined 12.4%. Meanwhile, the Bloomberg U.S. Corporate High Yield Index of bonds rated below investment grade has returned 20.8%, and the VanEck J.P. Morgan EM Local Currency Bond ETF EMLC, which tracks the J.P. Morgan GBI-EM Global Core Index of bonds in emerging markets, has returned 10%.
Rising interest rates have taken their toll on the higher-quality bond indexes. The riskier bond pools have been much better performers despite facing a higher risk of default and potentially greater price sensitivity as market conditions evolve.
The Eaton Vance Strategic Income Fund has outperformed them all, with a five-year return of 29.7%, after fund expenses (which total 0.74% of assets annually with a temporary partial waiver of 0.50%) and any credit losses.
In addition to high-yield corporates, Shaw cited three themes that have helped the Morgan Stanley team achieve strong long-term performance for the fund:
-- Investing in debt of distressed companies or governments. Fire-sale prices mean much higher yields with the hope that prices will recover as the issuers' fortunes improve.
-- Frontier local-market investing. These are markets that aren't yet included in emerging-market indexes. While he couldn't name current investments, Shaw mentioned Serbia as an example of a country that had been considered to be a frontier market before political reforms caused its government bonds to be added to the GBI-EM index in June 2021.
-- "Market-friendly political shifts," including recent election results in Hungary and Colombia. "We took positions with the expectation that the market-friendly candidate would win in both countries. Those have been accretive to the portfolio this year," Shaw said.
The markets
U.S. stock futures (ES00) (YM00) (NQ00) are dropping, as the 10-year Treasury yield BX:TMUBMUSD10Y tops 5.03% and oil prices (CL.1) (BRN00) climb over 2%. The dollar DXY is up and gold (GC00) is falling.
Key asset performance Last 5d 1m YTD 1y S&P 500 7619.98 -1.28% -1.61% 11.31% 15.19% Nasdaq Composite 26,186.41 -1.21% -1.72% 12.67% 17.17% 10-year Treasury 5.022 22.80 31.20 85.00 98.70 Gold 4310.5 -2.03% -1.80% -0.50% 15.64% Oil 103.58 9.90% 22.70% 80.42% 60.46% Data: MarketWatch. Treasury yields change expressed in basis points
The buzz
Morgan Stanley joined Goldman Sachs in a last-minute switch, predicting a Federal Reserve interest-rate hike at the conclusion of the central bank's two-day meeting on Wednesday.
The Empire State Manufacturing survey will be released at 8:30 a.m. Eastern.
Bitcoin (BTCUSD) has pulled back to under $77,000 and related stocks - Strategy (MSTR), Coinbase (COIN) and Robinhood (HOOD) - are falling, ahead of Tuesday's expected vote on the Clarity Act in the U.S. Senate.
Apple's (AAPL) TV-horror comedy sensation "Widow's Bay" won 14 Emmys, the most ever for a comedy series in a single year.
Trump's $5,000 checks get chilly Senate GOP reception.
Top tickers
These were the top-searched tickers on MarketWatch as of 6 a.m.:
Ticker Security name NVDA Nvidia TSLA Tesla MU Micron SPCX SpaceX GME GameStop INFY Infosys AAPL Apple TSM Taiwan Semiconductor Manufacturing AMD Advanced Micro Devices PLTR Palantir
-Philip van Doorn